An Insurance Windstorm: A ‘Compulsory’ Market

Notice to new readers in 2014: this piece was written over 5 years ago. The contact information is, in the main, no longer valid. Other events may have superseded some of the conclusions made in the article. Tony Percy (February 1, 2014)

An Insurance Windstorm : A ‘Compulsory’ Market

Executive Summary:In the aftermath of Hurricane Katrina, insurance companies in North Carolina have expressed concern about serious financial exposures from possible catastrophic hurricane damage in the State. But their concerted movement of clients to the state-mandated Beach Plan raises serious questions of improper tie-ins, monopolistic pricing, and perhaps consortium-driven decisions that would appear to be against consumers’ interest, and certainly in conflict with the original statements of intention of the North Carolina legislature. The evidence suggests that the NC Department of Insurance either has been grossly negligent, or has engaged in a deceptive program of socializing homeowners’ insurance.

Discovery

During the past year, many homeowners in Brunswick County may, like me, have received a letter from their insurance company informing them that it would itself no longer be providing Wind and Hail coverage. In my case, the letter stated that “the insurance industry in general and X Company in particular is concerned about insurance exposure in North Carolina. There is serious concern about the adverse affect a major hurricane would have on the financial stability of our company.” It did not explain why or how ‘the industry’ had reached this conclusion, or why its own researches were even more pessimistic. Was it because of global warming? And why was North Carolina being categorized as more risky than other states? From an actuarial sense, was it because we had had fewer hurricanes than usual recently – or more? I read on. The letter informed me that help was at hand. Coverage would now be provided by a body called The North Carolina Insurance Underwriting Association (NCIUA). “NCIUA is a company established by the State of North Carolina to provide windstorm insurance for property in coastal NC. Windstorm coverage issued by NCIUA will create a pooled risk shared by all North Carolina insurance companies. This shared risk will allow us to manage the risk of hurricanes in the future.” Even though I was aware of the problems that various companies had had in the wake of Hurricane Katrina, this touched my interest only vaguely. True, I did experience slight feelings of unease at the idea of ‘all North Carolina insurance companies’ consorting together, but thought nothing much more about it, and filed the letter.

A couple of months later, I received a letter from my agent with the quotation for the new combined policy, which reflected about a 23% increase over the prior year. My swift reaction was to regard this increase, far above the steady 10-12% increases over the past few years, as excessive. We own a modern house, built to withstand hurricanes. We have the correct hurricane-proof front-door installed, and customized hurricane shutters – both electronic and manual – for every window in the house. No tall trees capable of causing disastrous damage stand nearby. Furthermore, our house is a few miles inland (definitely not ‘on the beach’), and Brunswick County, since its shoreline faces South, does not incur the same ferocity of wind during hurricanes that the East-facing shores of North Carolina do. Also, since my wife and I are fortunate enough to own our house, free from any mortgage (unlike the majority of homeowners in this state, or any other, I imagine), we would not be required by any bank to carry such insurance. I felt that the risks of damage were such that I was prepared to assume them myself. So I decided to ignore the quotation: I had already sent off my check for the standard homeowner’s insurance (Fire and Theft, etc.), and felt comfortable now sitting among the group of self-insured.

Soon after the expiry date of my insurance from the previous year, I received an urgent call from my agent, alerting me to the fact that I had not purchased the Wind and Hail coverage. A phone call back to the receptionist did nothing to assuage his office, and I next got a stern letter in the mail. So I contacted my agent, letting him know of my decision, and asked him to write my insurance without Wind and Hail. This, he said, he could not do. The company required me to buy Wind and Hail coverage from NCIUA; moreover, he added that he did not think that any company would be writing Wind and Hail insurance for new customers, implying that it would be useless for me to look elsewhere. I protested that this hardly seemed fair: it was the company that had made the decision to unbundle coverage: how could it then force me to acquire re-bundled coverage? Wasn’t that an illegal tie-in? And since I could not challenge or negotiate the quotation given, nor look elsewhere, wasn’t the NCIUA a monopoly? He was sympathetic to my concerns, and a little edgy, but stated that there was nothing he could do, as it was the policy of the Company to require the Beach Plan – the name of the Plan offered by the NCIUA. The reason that the rebundling occurred, he said, was so that the agent, if a claim were made, could not be put in the difficult position of trying to arbitrate losses from various causes – which seemed a particularly feeble excuse to me.

I then wrote to the company, expressing my dismay and surprise, and my desire to renew my standard home insurance policy. I received a response that included the statement: “In order to control our exposure to hurricanes and severe windstorms, a company decision was made to reduce the number of policies covering windstorm and hail in the coastal areas of the state”. And then: “It is our company’s position not to continue coverage on properties that do not have separate windstorm and hail coverage.” The company did not explain why it had adopted that position, but did inform me that my policy would be cancelled a month after the renewal due date. Why would it want none of my business, I wondered, since it indicated that its exposure risk was to hurricanes and windstorms, and presumably considered fire and theft a valid line to remain in?

Since I had a couple of weeks before the axe would drop, I contacted other insurance companies, by calling both dependent and independent agents. After all, some companies would surely be more entrepreneurial, I surmised, and see me as a good business prospect. I explained at the outset that I was looking for standard home insurance, without Wind and Hail coverage from the Beach Plan. But, after a few mis-steps, when one local agent appeared not to know company policy, I was faced with the amazing news that confirmed what my agent had said: no company authorized by the North Carolina Department of Insurance to sell home insurance in the State was willing to offer any such insurance unless the buyer bought Wind and Hail insurance from the Beach Plan. Was this fact, that every company came independently to the same conclusion, not extraordinary? I thus had few options: I was not going to be blackmailed into adopting the Beach Plan’s punitive rates, so I waited to see what would happen (my insurance company had my check for the basic insurance, remember) and started to research this Beach Plan – so popular with the insurance companies – in more detail.

Then came the approach of the month’s grace. Another call from the agent found me in, and I let him know my decision not to acquire Beach Plan coverage. Never have I seen an insurance company move so fast. It made a mission by an LAPD SWAT team look like a FEMA budgeting meeting. Two days later, I received a stern letter from the company, informing me that it was cancelling my policy, and refunding me my premium amount. Now I was on my own.

Research

One of the first things I did was to contact my North Carolina government representatives, and alert them to the problem. One of them had heard of the problem from other constituents already, and directed me to the State Department of Insurance, and the organizations that have been set up to execute its legislation, the North Carolina Joint Underwriting Association (NCJUA, for something known as the FAIR Plan) and the NCIUA (for the Beach Plan). Initially, employees whom I contacted were fairly willing to help me with my inquiries, but it is not as if they are set up to deal with consumer-driven research, and, as I tried to dig more deeply, they have declined to respond to my questions about governance, for example. No doubt they now regard me as a nuisance. The NCDOI regards its role as responding to its masters, the NC legislature, and just awaits its further instructions, while the NCIUA seems to regard itself as a consortium run on behalf of its member companies. Its website is designed primarily with them in mind, not the prospective customer. A representative of the NCJUA/NCIUA categorized the association as ‘a residual market of high risk property business’: one might ask what areas of the state, or Eastern Seaboard, are classified as ‘normal’ or ‘low’ risk. Moreover, the NCDOI strongly defends what it sees as a strong regulatory role of ensuring that affordable insurance is available for homeowners (homeowners’ insurance is, of course, not its only statutory interest), as well as safeguarding appropriate profits for all the companies that it watches over – a sensitive and perhaps controversial role in what might outwardly appear to be a competitive market.

In response to my formal complaint, submitted via its website, the NCDOI did however agree to question my insurance company over its policy, even though it misinterpreted my expressed desire that I should be able to gain competitive un-bundled quotations from insurance companies as a wish that home insurance should be compulsory in North Carolina, and thus non-cancellable. Some NCDOI officials regarded it as unfortunate that such insurance was not compulsory, in the same way that some political candidates are trying to make health insurance compulsory, but that was never my point. The insurance company made the same bland excuse as it had done to me, saying in its letter to the NCDOI that “our intention was to have a consistent approach to this issue and to eliminate the possibility of the agent getting involved in a disputed situation at the time of a loss”. Poor agent and company, concerned about litigation! I was quite willing to sign a waiver indicating that Wind and Hail were my responsibility, but this was not enough for them, and the company thus forwent my business for safety reasons. (Again, homeowners with mortgages would have had to sign up without a whimper.) In another letter to the NCDOI, a senior executive from my insurance company (and I still refer to it in that possessive way, although I have now broken all bonds with it) complained about the cost of re-insurance, and the potential hurricane losses. “The extreme growth in our coastal areas, and increase in actual and predicted hurricane activity,” he wrote, “has caused the amount of premium needed to cover the hurricane exposure to increase significantly”. Of course, 2007 was one of the quietest hurricane seasons ever, and hurricane forecasts – especially regarding exact landfall – have been notoriously inaccurate. What ‘increase in actual…activity’ was the executive referring to? The ‘extreme growth’ (in construction) would presumably mean a corresponding growth in the number of customers paying premiums. But no matter. The NCDOI meekly accepted the reply, not even bringing up the issue of tie-in, pointing out in a letter to me that X Company “has made the underwriting decision to no longer underwrite your wind and hail coverage. This decision follows a trend that was set by many insurance companies that are currently providing homeowner insurance in North Carolina”. It thus overtly approved the company’s decision to cancel its underwriting of my base homeowner policy unless I bought Wind and Hail coverage from the NCIUA. With custodians like that, who needs PR agents? And why and how had this sheep-like ‘trend’ occurred? Was something else at stake?

To explore this question further, it was necessary for me to understand a little more about the Beach Plan. Contrary to what my company stated (“NCIUA is a company established by the State of North Carolina to provide windstorm insurance for property in coastal NC”), the Beach Plan operated by NCIUA was originally set up for true beachfront properties. This Plan was created in 1969 by the General Assembly, to cover “only those barrier islands adjacent to the Atlantic Ocean” (a clause taken directly from the NCIUA website). Furthermore, it initially offered only fire and dwelling coverage. In 1998, the Beach Plan was expanded by the NC General Assembly to include the eighteen coastal counties (called the Coastal Area) for Windstorm and Hail Insurance Only coverage. Thus, in a press release of February 17, 1999, Insurance Commissioner Jim Long was quoted as saying: “It is vital to the state’s economy that our citizens east of I-95 are able to find an insurance company willing to write these coverages which are necessary for home loans.” In other words, it was supposed to be a provider of ‘last resort’, a source of insurance to allow homebuyers to gain loans while still addressing the banks’ requirement for asset protection, a claim that the NCIUA website still indicates is true. Today, one can read there the following, in a response to “Who buys insurance through the BEACH Plan?” – “Almost anyone can. However, most people wanting to buy insurance on their properties can sometimes get broader coverage – often at a better price – in the regular competitive market. As a matter of fact [in case anyone imagined this was fiction], it is recommended that an applicant try to buy insurance in the standard market before coming to the Beach Plan.” Well, one might try, but it is simply no longer available – at any price at all. It is a matter of fiction.

A significant change occurred in 2003. Senate Bill 769 (Coastal Homeowners Insurance) was passed that year, designed to make homeowner’s insurance available to coastal area residents in Eastern North Carolina. In a NCDOI press release of July 11, it was stated that the new law was “expected to alleviate the homeowners [sic] insurance crisis currently felt by residents of North Carolina’s 18 coastal counties”. (If you were a resident of such counties who had purchased for some years comprehensive insurance without any trouble, at a reasonable price, from one of the approved companies, as I had, you may not have been aware of this ‘crisis’.) Sponsored by Senator Scott Thomas, who represents Carteret, Craven and Pamlico counties (the Outer Banks and close proximity), he was quoted in this same press release as saying: “Where residents may have had difficulty finding homeowners policies before, now they and their insurance agents will have new options.” No longer was the Beach Plan restricted to fire and dwelling; it now offered comprehensive coverage, except for flood, which was available only through the Federal program. “No longer will the residents of eastern North Carolina have to struggle to find needed coverage at affordable prices”, Commissioner Long proudly boomed. Yet under his statement there appeared, among some of the ‘details of the legislation’, the information that “Commissioner Long has authority to approve rates, which will be no more than 15 percent higher than rates in the voluntary market.” Apart from that disturbing word ‘voluntary’ (isn’t a ‘compulsory market’ the ultimate oxymoron?), here lies a dire warning for consumers, and the essence of the whole windstorm. Insurance companies are compelled to participate in this Beach Plan, but prices derived from its captive audience will be considerably higher than those the companies would be allowed to charge in a ‘voluntary’ environment. The Association has to utilize the rates published and approved for use by the North Carolina Rate Bureau, which attributes a portion of the total base rate to windstorm and hail coverage. The NCIUA claims its flexibility in pricing after that is very low, but it is difficult for an outsider to determine whether there are standard Beach Plan rates, or whether companies have additional flexibility beyond NCIUA norms. And yet the NCDOI and the administrators of the Beach Plan both still fondly imagine that consumers have a choice. Those good citizens of, say, inland Navassa, perhaps considering on a weekend whether to take a day-trip to Oak Island, well may wonder why they should be forced to buy Wind and Hail from a ‘Beach Plan’ when their risks from tornadoes appearing from the South-West may indeed be as great. But one could well imagine that the investors in, and administrators of, the Beach Plan would like to extend its geographical coverage to the Great Smoky Mountains.

I should point out, at this stage, that one acquaintance of mine was strongly encouraged by his insurance provider to move his current Wind and Hail Insurance to the Beach Plan, even though engaging the Beach Plan would have been cheaper for this consumer! The company, a smaller organization with perhaps more specialized clients, appeared to seek safety in numbers by wanting to share risk with other members of the consortium, thus forgoing the extra profit that extending the policy with my acquaintance would have provided in the short term. It is thus difficult to tell whether the company was influenced by the herd mentality, or had genuinely performed an actuarial assessment that directed it to this somewhat bizarre behavior. It is also hard to explain how the company was able to gain approval from the NCDOI for rates that were considerably more expensive than those with the Beach Plan. Since then, this pattern has been echoed to me by three further contacts, two dealing with the same insurance company, and one with another enterprise. The company itself offered them a vastly more expensive Wind and Hail Plan than the one they currently had, but then showed its charity by stating that a less expensive offering could be gained via the Beach Plan, thus making the customer feel utterly grateful for the generosity showed. It appears that the companies circumvented the obvious lack of approval from the NCDOI for their pricing schemes by requiring the customer to sign a letter accepting the extraordinary prices, and agreeing to accept any future increases that the company might make. The comparative costs quoted were astounding. For instance, one homeowner said to me that the basic (Fire and Theft) coverage for his home was about $500, the Beach Plan Wind and Hail coverage brought it up to $1800, but the private company quotation was for $3600. Another homeowner with a similar experience suggested that the NCIUA was effectively telling such companies: ‘sign business through the NCIUA, or we shall cancel your license to sell insurance in the State.’ Hence the high prices. But, no matter how high their loyalty to, and satisfaction with, the private insurance company, what customers could justify such an expense? Maybe they were being forced to the Beach Plan. Moreover, several have been told that, once they move to the Beach Plan, there can be no migration back to the private plan. Why should that be? Who has mandated that?

It is difficult to tell exactly how all the insurance companies happened upon the same policy conclusion, but it is easier to detect why most of them did it. The annual financial statements for the NCIUA up to September 2007 (what was available at the time the bulk of this research was performed) show a nice profitable business. The Income Statement and Equity Account for the Beach Plan states that a gain of nearly $114 million was made on premiums of $195 million. From that 195 million nearly 33 million was deducted as ‘Ceded Reinsurance Premiums’ – meaning ‘reinsurance’. Operating expenses ran to slightly over 21 million dollars, which included ‘Commissions’ of between 8 and 9 million dollars. (These commissions are not sales commissions, as there is clearly no selling involved: I was told it was ‘for administrative work’.) Thus the Net Income for the year was over 135 million dollars. I am not familiar with typical financial figures for the insurance industry, but these numbers appear to represent profits that could be called ‘excessive’. I thus asked the NCDOI the very natural questions: “Does the NCDOI consider these monopoly-driven profits reasonable? Why are none of the monies returned to policy-holders, given the few claims that have been made? Will rates be adjusted downwards given the extreme profitability of these policies? How is it determined, from an actuarial standpoint, whether profits should be retained, returned to policy-holders, invested, reflected in reduced premiums in successive years, or paid back to equity-holding member companies?”

The answers I received were informative, although not quite in the manner I sought. The first fact offered was that NCIUA was seeking an astonishing 76% rate increase for 2009, which ‘NCDOI has on hold’. (The data behind that request must be interesting to behold, but no doubt the NCIUA Board pitches its request high, knowing that it will be rejected, and that the NCDOI will then be able to claim a victory on behalf of consumers.) I did sense, however, despite this rate increase request, a measure of concern about how the NCIUA was operating. The emailed response went on: “A coastal insurance working group was recently formed to address some of these questions. The NCIUA’s board has allowed [‘allowed’, or ‘required’?] the Beach Plan to accumulate up to $500 million of equity before it disperses any money to member companies. Previously, NCIUA dispersed equity or charged assessments to member companies on an annual basis. NCIUA is not a mutualized insurance company, therefore it does not return money to policyholders.” Of course I realized that last fact, but I was looking for reduced premiums, not payment of dividends. At the beginning of 2008, Members’ Equity in NCIUA as reported on its website stood at $385 million, so maybe there is a desire on the part of the member companies to accelerate the build-up of that equity so that they can enjoy the profits sooner.

(Since this report was first compiled, the NCIUA has issued financial information up until March 2008. At that stage, YTD Net income on Revenues of almost $121 million was close to $80 million, and Members’ equity had risen to $466 million, a figure that approaches the half-billion dollar amount that needs to be attained before some of the revenues can be disbursed back to member companies. That figure should be reached when the current quarter ending on June 30th is completed.)

I could gain little further information about the make-up of this ‘working group’, apart from the fact that it comprised ‘an informal group of industry representatives’ brought together ‘to discuss the risks and problems facing the private and residual coastal residential property insurance market’. (Notice that there is no mention in this charter of any problems that consumers may be facing.) A representative of the NCDOI did inform me that ‘the commissioner had been approached by members of the insurance industry and industry trade groups with concerns about the significant growth of the Beach Plan and the potential for assessments in the event of a catastrophe’, adding further that the aggregate exposure of the Beach Plan increased from $41 billion to $64 billion from September 2005 to September 2007. But why should these industry members be surprised? Unless some subtle or overt influence has been worked on them by the NCDOI, they have been the instruments of moving more customers willy-nilly into the Beach Plan, so why would they be surprised at its growth? And what is significant in the growth of this ‘aggregate exposure’ without a discussion of the escalating premiums that have been approved to provide against it? In any case, the overall message seems clear. Like Willie Sutton, famously asked why he robbed financial institutions, the Insurance Companies could be asked: “Why do you focus on the Outer Banks?” “Because that’s where the money is.”

So the last question to be asked is perhaps: “How does the NCIUA operate? How are decisions made”? When I suggested to one NCDOI representative that the NCIUA looked like a consortium to me, he objected to that description, claiming that, as it was created by legislation, and as the participation of all property and casualty insurance companies that do business in North Carolina is thus compulsory, it is not a public sector entity. But by any other measure it looks like a cartel. The NCIUA website declares that it “is an association which, as agents for the member companies, functions like an insurance company, making basic [‘wind and hail’ is certainly not ‘basic’, in my book] and broad property insurance available to people who are not able to buy it through the standard insurance markets”. Its members have equity in it, and 50% of its Board of Directors are representatives from the insurance industry. They fund the plan, and share any losses or profits. But how come that it ended up being the insurer of sole resort for 75-80% of the value of new (or cancelled) home insurance premiums in eighteen coastal counties, with each company adopting the same bundling policy? Did each of the anonymous companies make the decision separately? Or was it a recommendation from the Board? The Board of Directors “act [sic] as the Beach Plan policymaking body”. But I could not get any answers to my questions as to which companies are represented on the Board, whether minutes of policymaking meetings are published, whether they are reviewed by the NCDOI, or whether they are made available to the public. All I can do now is to quote the famous words of Adam Smith from The Wealth of Nations: “People of the same trade seldom meet together, even for merriment and diversion, but the conversation ends in a conspiracy against the public, or in some contrivance to raise prices.”

Analysis

Is this a system that is working well? Is it a decent compromise in an imperfect world? And how do the various parties benefit from it? It must clearly be good for the insurance companies, as they are (mostly?) gaining higher premiums under the auspices of government regulation at a time of apparent nervousness in the industry. Coastal Carolina is not the only region affected by what might be called post-Katrina Syndrome: the New York Times published, on October 16th, 2007, an article that described attempts by insurance companies to raise rates aggressively, or even cancel coverage, in the Northeast, because of fears of future catastrophic hurricanes. Yet the conclusion was that the companies were over-reacting, and some of the practices described, such as requiring ‘tie-in business’ of car insurance and homeowner insurance, were clearly illegal. The housing market was being affected, claimed a New York senator: at this time the disaster of the sub-prime mortgage crisis was not yet apparent. Florida and Massachusetts both have high-risk pools (like the Beach Plan) that are growing rapidly. And an added factor may be the rise in importance of the Internet. In their best-selling book Freakonomics, Steven Levitt and Stephen Dubner explain how the cost of life insurance has rapidly declined since buyers have been able to compare the prices of competitive offerings on-line. Furthermore, they describe the subtle and sometimes surprising ways that entities gravitate towards their own economic interests. If homeowners insurance companies cannot differentiate their products, or customize them well for different prospective buyers, what could be more obvious than escaping to a homogenized offering that is approved by a government authority to be sold at a higher price? Forgoing the shorter-term pecuniary advantage of selling unbundled insurance, or their own Wind and Hail plans to consumers, for the more predictable exercise and return of moving business to the Beach Plan, seems steadily more attractive.

As a counterpoint, in a report in the Wilmington Star-News of April 5th, 2008, reporter Gareth McGrath stated that “one solution [to the problem of higher insurance rates] often floated by the insurance industry is a move towards risk-based pricing, where rates would be based on a property’s vulnerability during a hurricane strike.” This claim again begs the question: who is speaking ‘for the insurance industry’?, but also reminds us all that that is what the business of insurance should be about, an actuarial assessment of risk based on an individual situation. The NCDOI seems to have forgotten this: McGrath followed up by saying that “State and coastal officials have generally been against that idea, worried about what that would mean for rates in some areas.” Their response is thus effectively socialized insurance. But one has to question the sincerity of these representatives of the insurance industry, ‘floating ideas’, whoever they are. If an individual company really wanted to strike out on its own with ‘risk-based pricing’, would the NCDOI stop it? Moreover, under the current arrangement, they have practically no marketing and sales costs: when did you last see an advertisement on television by a homeowners insurance company? Does the current set-up not suit them better? Therefore, is it not surprising that insurance companies up and down the East Coast are taking advantage of the different States’ mandates for compulsory plans to move more and more business into them? Such a practice, however, is at best bizarre, and, if any kind of concerted policy-making is involved, at worst, possibly illegal.

The system must appeal to the agents, as the business is assured, and they presumably get commissions for non-competitive work. The banks can rely on an insurer ‘of last resort’ actually being one ‘of only resort’, and can thus take advantage of the original reason why the Beach Plan was adopted when they offer loans to mortgagors. The NCDOI appears to be pleased that it has made insurance available to some who were uninsurable before, but will take no further action until prodded by the legislature. Moreover, it takes pride in its role as regulator and arbiter over a market. In a press release of February 17, 1999, Commissioner Jim Long was quoted as saying: “I’m confident that my department has done an outstanding job of keeping a careful balance of protecting the consumers with fair insurance rates, yet still maintaining the solvency of insurers who do business in this state.” Some may, however, question whether any industry should be regulated in this way, since it ends up removing any competition at all. And recent calls for more federal regulation of the financial services industries generally – occasioned by the repackaging of sub-prime home loans as collateralized debt – has shed light on the fact that the states still hold on very jealously to their individual rights to regulate the insurance business.

But the consumer ends up overlooked and injured. If required, by virtue of a mortgage agreement, to acquire Wind and Hail Insurance, he (or she) sees rapidly escalating prices that he cannot contest, and to which he can find no alternative. He may sense that he is unfairly subsidizing those who have built homes in exposed areas where a hurricane could truly cause damage, or is compensating the insurance companies for losses sustained in other parts of the country. At a time when house prices are falling, his insurance premium is increasing rapidly. He has no redress. Yet, in these days of geographical information systems, and detailed historical records, insurance companies ought to be able to provide highly specific risk assessments for different parts of the State, and even different parts of a county, in order to customize policies for individual consumers. And the NCDOI continues to misrepresent this fact. In its publication, AConsumerGuide for Homeowners Insurance, it presents the Beach Plan as a policy directed at residents of ‘High Risk Locations’, and restates the claim that the plan is designed for those ‘who have difficulty securing insurance from other sources’. But to treat all areas of the Coastal Counties as ‘High Risk’ is disingenuous: the examples it uses are ‘beach locations’ as being ‘more susceptible to windstorm’, and ‘urban areas’ as ‘more susceptible to the peril of theft’. Lastly, the homeowner without a mortgage suffers the indignity of seeing his Insurance Company unbundle his coverage, at its own whim, and then effectively re-bundle it by refusing to offer him standard fire and theft coverage without the expensive Beach Plan policy.

And the saga of misunderstanding, deception and misrepresentation continues. In late July, the Richard S. Brantley Risk and Insurance Center at Appalachian State University sponsored an insurance symposium ‘Insuring Coastal Properties’. David Marlett, who chaired the symposium, stated in an April press release that “A healthy insurance market is critical to the economic development of our coastal counties. Without insurance on homes, the homeowners can’t get home mortgage loans. That hurts the lending sector and the real estate construction market.” But such an opinion reflects reality of over ten years ago, and for only a single county in North Carolina! There had been a healthy insurance market then; the economic development of the coastal counties has developed handsomely; mortgage loans have been easily acquired. This so-called crisis is completely artificial.

Of course the insurance companies were quick to exploit this opportunity. A story by Jay Price in the Raleigh News & Observer on July 20 (the first day of the above symposium) gave air to the deep concerns of the insurance companies: the state-created coastal insurance plan for those who can’t get standard coverage [my italics] is woefully underfunded; the smaller insurance companies would be threatened with bankruptcy in the event of a major storm; one study suggests that the Beach Plan’s rates are 76% too low; the industry [that unanimity again!] would like to see caps on assessments to smaller companies after a major storm; the NC Department of Insurance believes higher rates are an essential part of any plan, as well as ‘stronger building codes’ [a bit late now!] . A spokesperson for the DoI had the gall to say that ‘whatever we come up with has to have buy-in from a lot of different groups, including rate payers, the legislators and consumer advocacy groups.’ But the DoI watches over an organization, the NCIUA, which is completely hostile to any kind of consumer questioning, or inspection. How are such groups to make their voice felt when the NCIUA declines to answer questions about its reserves, what the make-up of the working-party chartered to address the issue will be, and how consumer concerns will be taken into consideration? (Jay Price said that he had been invited to attend the working party sessions, but, after the first meeting, when it became clear to the officers that he was intending to report on its proceedings, his invitation was canceled.) Moreover the NCIUA declined to attend this symposium. It clearly feels it is far too important to allow its representatives to actually debate these weighty issues in a public forum.

Conclusions

The first apparent lesson from this series of events might be that the Law of Unintended Consequences has, once again, worked its insidious effects on the populace. A law designed to provide insurance for those who could not get it elsewhere ends up stimulating a mechanism that forces more and more people to acquire it from an expensive monopoly. ‘Last resort’ becomes ‘only resort’. A well-intentioned attempt to regulate an industry goes far beyond a policy of ensuring the financial stability of participating companies into reducing all meaningful competition altogether, and facilitating cartel-like operations and decisions that are anti-consumerist. The regulating body talks innocently about a ‘voluntary’ market, as if what it regulates could be a valid antithesis (a ‘compulsory’ market?), yet even the voluntary market does not exist for the bulk of the value of homeowners insurance. If this set-up is not socialism, it is certainly ‘crony capitalism’ such as one might expect to find in Russia, or Mexico, but not in the country known for the championing of free enterprise and consumer choice. If the NCDOI has let this initiative drift into its monopoly status, it (and the NC legislature) is guilty of negligence, but the fault can be easily remedied.

On the other hand, this might not be an ‘Unintended Consequence’ at all, but rather the working out of a long-term goal by the legislature and the NCDOI. The Assistant Attorney-General wrote in a letter to me dated May 12th (see ‘Postscript’ below): “As for NCIUA evolving from being the wind-and-hail insurer of last resort to being ‘of only resort’, it is not clear that the legislature did not contemplate that outcome.” That tortuous double-negative helps to conceal the writer’s true interpretation, but one could assume that, for him, at any rate, the evidence points towards the legislature’s desire for a socialized insurance outcome, and the use of the NCIUA to help attain that goal. Thus a pattern appears to evolve, as evidenced by the following phenomena:

Unexplained universal decisions by the insurance companies to exit individually the Wind and Hail business, but to require bundling of the Beach Plan with their standard Homeowner’s Insurance;

Artificial and lame, but obviously prepared, excuses as to why their business policies required them to tie in the two types of policy;

Bizarre pricing, where offerings for Wind and Hail insurance that are considerably more expensive than those of the Beach Plan have to be signed off by customers, while the NCIUA still claims that policies in the competitive market should actually be cheaper;

Statements by NCIUA representatives that homeowners’ insurance in North Carolina should be compulsory;

Suggestions from certain consumers that insurance companies have been threatened with loss of license to operate in the State unless they moved aggressively to use the Beach Plan;

Statements made by insurance companies that customers will not be allowed to move back from the Beach Plan once they migrate to it;

Hypotheses by the Assistant Attorney-General that making the Beach Plan a monopoly with broader geographic coverage may have been the original intent of the legislature;

Guarded statements by unidentified members of the insurance industry that a return to risk-based policies might be appropriate, but a singular lack of initiative by any of them to follow up on such an idea;

A lack of openness about the proceedings of, and decisions made by, the NCIUA, including a decision to cancel an invitation to a member of the press who indicated that he would be writing reports on them;

General silence over the whole issue pending the arrival of the completion of 2Q 2008 business, when the NCIUA fund will reach $500 million, and thus be available for profit disbursement;

Lack of interest by the North Carolina Department of Justice in wanting to intervene, and showing a readiness to defend the legislature and the NCDOI;

The decision in early 2008 by the NC Insurance Commissioner, Jim Long, not to run for a further term.

In that case, if the legislature and the NCDOI have deliberately misled the public in its plans and execution for the Beach Plan, through implementing by stealth a socialized insurance scheme, all those responsible should be thrown out of office, and the Beach Plan should be dismantled.

Whether intentional or not, a monster has been created. And to me, the essence of this controversy revolves around socialization of insurance, and, in that respect, mirrors the debate about insurance and universal health coverage in this country. Much of the nationwide discussion refers to ‘universal health insurance’ as a way of achieving ‘universal health coverage’, with suggestions by some of ‘compulsory health insurance’ so that those fortunate enough not to need healthcare above what they pay for should be able to subsidize those whose future costs will clearly be far in excess of what their payments could ever be. (If severely sick people are seeking healthcare insurance because they know they will need expensive treatment, there is no ‘risk’ involved. It is a certainty.) But insurance is about decisions made on the basis of risk, and it is very difficult for individuals to make sensible decisions about their own health insurance if the rules are continually changing, when, for instance, mental healthcare may suddenly be mandated by government to become an essential part of an insurer’s coverage, or new expensive treatment options are suddenly made available. The free market cannot work that way. The alternative is a truly socialized health program, where funding essentially comes from tax revenues (‘universal health insurance’), and the system is run by the government. Private healthcare insurers might then represent a supplementary industry (as in the UK, for example), and healthcare would have to be rationed in some way by the government. The Wind and Hail program offered by the monopolistic Beach Plan appears to be of the same socialized mold, where in this case the State government coerces and controls so-called private healthcare insurers in order for cross-subsidization to occur, and private individuals can no longer make proper decisions based on risk assessment.

This pattern has been confirmed in July 2008, with the possibility of the quasi-private agencies Fannie Mae and Freddie Mac drifting into insolvency, and the Government having to make promises to bail them out, if necessary, to keep the trust of foreign investors. In an analysis of those institutions’ ambiguous status (New York Times, July 27th), William Poole, a fellow of the Cato Institute, wryly observed; “There are lots of insurance businesses around: property, auto, life and many others. These markets work fine without any government-sponsored enterprises.” Mr. Poole is clearly not familiar with the NCIUA and the Beach Plan.

What should consumers hurt by this policy do? They should write to their state representatives. Representative Bonner Stiller has responded conscientiously and with interest to my appeals to him, recognizing that the practice of ‘bundling’ is a generic problem among his constituents. He has promised to have his staff research possibilities in how new legislation could be drafted, although he states that the earliest a new bill could be filed to remedy the situation would be during the 2009 long session, as the short session starting in May 2008 will be consumed by issues not resolved during the previous long session. But the main problem obviously goes far beyond bundling; it is an issue of misrepresentation of potential risks by geography, exploitative pricing by the cartel of insurance companies that does not appear to be justified by the facts, and it contains strong hints of collectivist decision-making, and an apparently secretive process of policy-making by the NCIUA, over which the NCDOI appears reluctant to intervene – perhaps because this is how it interprets its instructions from the legislature. Consumers affected by these missteps should promptly contact their state representatives, urging that remedial action should be undertaken as soon as possible. This report will be distributed more broadly, as the author believes that only greater publicity will have an effect on the perpetrators.

In addition, 2008 is a gubernatorial election year for North Carolina, and consumers should press candidates to declare what actions they will take, if elected, to resolve the problems described. Moreover, the position of Commissioner for Insurance has two new candidates. Since Jim Long announced that he will not be standing for re-election this year, a new democratic candidate, Wayne Goodwin, Jim Long’s assistant, somebody enthusiastically endorsed by Mr. Long, will be standing as the Democratic candidate. The message from Mr. Goodwin’s campaign website offers more of the same bland concern: “I am NOT affiliated with the insurance industry. I am for the People”, backed up by a slogan of continuing the same dirigiste policy that characterized Jim Long’s tenure: “I pledge … A Competitive, Stable Insurance Market”. Yet the campaign message of the Republican candidate (John Odom) is sadly even less inspiring: “I believe the insurance commissioner should serve the people by helping to provide the best climate for insurers to operate, and should be the state’s consumer advocate in insurance matters. Making sure insurance companies live up to their agreements to provide services to the insured and to the public is important to me. The insurance industry provides a vital service to the public, and I salute those in the industry who take on this burden with the priority of serving the people they insure.” Mr. Odom shows that he does not understand free enterprise: ‘saluting’ the homeowners insurance companies for the ‘burden’ that they undertake for ‘providing a vital service’ completely undermines the notion that insurance should be a commercial product that individuals should be able to select from multiple suppliers, who should compete on whatever terms they choose in order to provide value to customers and deliver profit to their shareholders. So, unless Mr. Goodwin and Mr. Odom can be approached with the facts, and challenged on the issues I have laid out, the prospect for change in Raleigh is not promising. Consumers affected by the activities of the Beach Plan should press Messrs. Goodwin and Odom to explain what actions they would take to remedy the situation.

Remember: If insurance companies don’t compete, you lose!

Tony Percy, August 5 2008 (Version 13)

Postscript:

On March 24th, 2008, I sent to the North Carolina Department of Justice an official complaint about the anti-consumer and probably antitrust activities of the custodians of the Beach Plan, and the ineffective oversight carried out by the North Carolina Department of Insurance. I enclosed an earlier version of this report. A week later, I received a reply from that department, signed by a ‘Consumer Protection Specialist’, stating that ‘it appears that it [‘your request for assistance’] would be more appropriately handled by another agency’, and that the Consumer Protection Division was forwarding my complaint to the Department of Insurance.

The Department of Justice had failed to realize that my complaint was as much against its sister Department of Insurance as it was against the insurance companies managing the Beach Plan. In that regard it shows that it is equally a part of the problem, and provides more evidence that the regulation of insurance companies should be removed from state control. I immediately wrote back, encouraging the Division to take a much more serious look at my complaint than it had appeared to have done during its first consideration. But I was not surprised, after another week had passed, to receive a curt letter from the Department of Insurance informing me that “our office will not be able to provide you with any other assistance regarding this matter.” In other words: “Drop it!”.

Nevertheless, my tactic did have some effect. In late April, I received a letter from the Assistant Attorney-General that did analyze my complaint in more detail. His response can be summarized as follows:

He did see evidence of a tying arrangement (‘bundling’), but regarded it as a ‘lawful’ arrangement, as it did not require the secondary product to be acquired from the same entity that was offering the primary product.

He stated that anti-trust laws do not apply in a case of ‘state action immunity’, where a state articulates an intent to displace free market forces with a regulatory scheme.

It appeared to me that the Assistant Attorney-General had not read my report, and was not completely familiar with the evolution and current role of the NCIUA, and how it had transformed into an organization with powers far beyond the original intent. Accordingly, I wrote him another letter, in which I pointed out the reality of the joint ownership of the NCIUA by all the insurance companies that were now invoking the tying arrangement, and reinforced my conclusion that the NCIUA was now a monopoly, and no longer the provider of ‘last resort’. I also sent him a copy of the then current version of this report (Version 6) so that he could study my analysis in more detail.

I received a response from the Assistant Attorney-General. I was surprised to read that he quoted a recent U.S. Supreme Court Judgment (Bell Atlantic v. Twombly) to reinforce his claim that ‘parallel conduct by market participants is not illegal’, the implication being, presumably, that he did recognize parallel action by the Members of the Beach Plan, but that such action was similarly not illegal. In addition, as commentary on the NCIUA’s becoming the insurer of ‘only resort’ as opposed to that of ‘last resort’, he stated, in a rather tortured double negative, that ‘it is not clear that the legislature did not contemplate that outcome’.

What could that mean? That ‘it was clear that the legislature did contemplate that outcome’? Or that the proceedings were so muddy that it appeared that the legislature did not have a clue as to what it was doing, and what the outcome of its actions might be? I began to become a little stupefied as to the workings of the legal mind. But I did look up Bell Atlantic v. Twombly, and was surprised to find that the judgment had quite different implications.

I accordingly responded to him. I quote from my letter of May 17th, 2008:

“You refer to a recent judgment by the Supreme Court (Bell Atlantic v. Twombly) to reinforce your claim that ‘parallel conduct by market participants is not illegal’. But my investigation of this case appears to offer no such guidance. In this highly controversial decision, the Supreme Court did not suddenly bless any parallel activity by market participants, but simply reversed an earlier judgment by the U.S. Court of Appeals for the Second Circuit, and stated that the lack of material facts as evidence of the plaintiff’s claim at the pleading stage was sufficient for the case to be dismissed. This judgment countered a traditional belief (Conley v. Gibson) ‘that a complaint should not be dismissed for failure to state a claim unless it appears beyond doubt that the plaintiff can prove no set of facts in support of his claim which would entitle him to relief.’

Now, if we were to interpret this judgment as saying that ‘parallel conduct by market participants is not illegal,’ it would take all teeth out of the Sherman Act, which I am sure is nobody’s intent, not even that of Justice Souter. All it does is increase the requirement for the plaintiffs in such cases to perform diligent research, although the dissenting Justice Stevens took an even softer line than that. And should I interpret your opinion as stating that the companies did in fact engage in parallel conduct, but that your interpretation of the Bell Atlantic v. Twombly judgment means that such conduct need not be investigated, and they can safely continue to execute identical policies, even when they are not acting as members of the NCIUA?

Of course, it is very difficult for the layman to provide hard evidence of collusive activity by the members of the NCIUA. We do not know which companies are licensed to sell homeowners’ insurance in North Carolina. The members of the NCIUA are not listed. Its meetings are not open to the public, and no minutes of the meetings are published. Consumer representatives have not been invited to the special working-group to discuss disposition of profits of the NCIUA.

On the other hand, we do know several pertinent facts. No company appears to be offering unbundled fire and theft homeowners’ insurance in the coastal areas of North Carolina. Each company is encouraging consumers to take up Wind and Hail insurance with the Beach Plan. In two instances that I have discovered, insurance companies have offered their own Wind and Hail insurance policies to customers, but, since they were far more expensive than the Beach Plan, and thus unapproved by the Department of Insurance, they have required customers to sign a letter of waiver, accepting the ‘unapproved’ fee, and any future increases. Companies are explaining their unwillingness to offer unbundled insurance solely by a reluctance to have an agent involved in a legal dispute, but there has been no invitation for a consumer to sign a letter freeing any agent from liability in such circumstances.”

I also reminded the Assistant Attorney-General that the NCIUA and the Department of Insurance continued to assert, through their websites and other publicity material, that the Beach Plan is not intended to be the sole provider of Wind and Hail Insurance, and that homeowners should seek suppliers in the open market first. And yet both claims continue to be fictions. I again urged him to intervene, since the Department of Insurance did not appear to be executing its mission appropriately.

As of June 6th, 2008, I had received no further communication from the Assistant Attorney-General, so the correspondence appears to be closed.

I also wrote to John Odom, explaining my disappointment at his candidacy statement, and enclosing a copy of this report. I had earlier sent an email message via his campaign website, which was neither acknowledged or responded to – not a good sign. I have not received a reply to my letter to him.

The Wilmington Star-News featured an article about my cause in its issue of June 7, 2008. It was titled: ‘Hail and Wind Insurance Hits Homeowners’, and appeared on page 1 of Section B.